The Federal Reserve's decision to raise interest rates by 25 basis points this week split the difference between the bigger increase it signaled earlier this month and the pause that many demanded because of alarm over distressed banks. Under testing circumstances, the modest increase in the policy rate to a range of 4.75% to 5% is a defensible compromise. Even so, cracks are showing in the central bank's reasoning.
The Fed had to balance two risks. The first was that maintaining a firm pace of monetary tightening would deepen the recent turmoil, lead to a further unintended tightening of financial conditions, and cause demand to fall abruptly. The other was that keeping rates on hold, at least for now, would lead investors to doubt the Fed's determination to get on top of inflation.